What should I offer?

Question

Have a property that I am currently interested in but really am not educated in understanding investment properties. Here's the deal:

7 unit building - 3 commercial and 4 apartments
1 commercial unit is occupied and 2 are vacant
All 4 apartments are occupied

Current income = $1,910 monthly
If other 2 vacant commercials rented then income = $2,725 with the potential to increase rents across the board by $50.00 each unit

Expenses = $1,000 monthly

Asking price = $235,000.00
Repairs needed = $25,000 - $30,000

What would be a fair offer?

Keith Schellhardt · Answer

It was requested to provide rental income on each unit versus overall income and I dont understand how that has a bearing on doing the math, hence thats why I am here to learn.

Okay, here it is:
Apt #1 = $360 mo.........could go to $410
Apt #2 = $345 mo........could go to $395
Apt #3 = $330 mo........could go to $380
Apt #4 = $360 mo........could go to $410

Comm #1 = $515 mo.....could go to $565
Comm #2 = $415 mo.....could go to $465 [currently vacant]
Comm #3 = $400 mo.....could go to $450 [currently vacant]

Any additional info needed?

Michael Rossi · Answer

Rich,

That's not quite right.  Operating expenses run 45% to 50% of the gross rents for residential rental properties.  That is different for commercial space as the tenant often pays the expenses.  In a triple net lease, the tenant pays taxes, insurance, and maintenance.  That can significantly alter the picture.

There is not enough information given in the original post to give an accurate analysis of this deal.  To analyze this deal, we need to know the apartment rents and the commercial rents.  For the commercial space, we need to know what kind of lease it is.

Mike

Account Closed · Answer

Wheatie (and MikeOH) are correct on this.

Part of the logic is the NOI assumes no financing in place, all cash purchase price. The logic is you want to compare what a building produces in terms of income independent of financing.

How and why an investor might use financing is independent. Some investors do not finance their properties. Others like to maximize the leverage. That is an investing decision that is not tied to the net income after operating expenses.

John Corey

Jon Holdman · Answer

No, the mortgage payment is not an operating expense.  Operating expenses are what you spend to operate the property.  That is, to make it serve its expected function.

Keith Schellhardt · Answer

MikeOH - I dont see where you listed mortgage note in the operating expense.............its not included?

Michael Rossi · Answer

Operating expenses include taxes, insurance, management, maintenance, utillities paid by the owner (including during vacancies), advertising, entity maintenance, legal fees, evictions, court costs, capital expenses (not technically an operating expense), damage done by tenants above the deposit, lawsuits, office supplies, etc, etc, etc.

Mike

Keith Schellhardt · Answer

Thanks for the input everyone.

In reading replies and other post I find it typically stated that you should consider operating expenses to be approximately 50% of gross revenue. Could someone advice what all should be included under the term "operating expense" and are there exceptions to this rule?

Account Closed · Answer

Consider doing nothing until after the foreclosure. You might get a better deal from the lender than the seller.

Consider a short sale. The lender will not want to pay the back taxes. You will not want to either.

Even with the above you have no real deal if the lenders do not want to finance the property. The present owner being a tenant will not help as they will not be paying on time.

John Corey

Keith Schellhardt · Answer

I was able to meet with the owner of the property and through ongoing dialogue I was able to determine the following:

1. Property is close to being foreclosed upon
2. Owner has large tax debt that needs to be paid off
3. Just went thru divorce
4. Is actually one of the tenants in the building
5. Has supposedly gone thru Chapter 13 Bankruptcy

Any further thoughts on what my approach should be?

Account Closed · Answer

1. With a mixed use building it is common that the landlord pays a lot of the expenses for the commercial units. Mostly because it is hard to separate the costs for certain things (roof, etc). A commercial tenant might pay more of the expenses but it is almost NNN in a mixed use building.

Some commercial leases will have the landlord responsible for the maintenance and other sort of things and then the costs are passed on pro-rated to the commercial tenants.

2. Before getting too interested in this property talk to a lender about financing. Definitely talk to a local bank and if you want use a mortgage broker who has access to more national funding.

Mixed use buildings can be hard to finance. You want to find out if there is financing and then figure out what strings are attached. The LTV or other ratios might be pretty conservative. Or they will not touch it until there are leases in place for the commercial units. The lender might even want to see the rent roll to season before they will value the property.

3. Once you get things figured out then go back to the seller and put pressure on them to offer seller financing to make the deal fly. They are likely expecting to help fund the deal if they want a good price. They likely know if there are issues getting the place financed

John Corey